China's local banks are in for a shock when the sector is further opened up to foreign banks at the end of this year and will need to become much more competitive.

 

That is according to Shi Jiliang, former vice-chairman of the China Banking Regulatory Commission (CBRC).

 

He said increased liberalization will have a major impact on local banks, although the initial shocks are not likely to be too significant.

 

According to its World Trade Organization (WTO) commitments, China is scheduled to scrap restrictions on foreign banks in December.

 

At that time, foreign banks will be allowed to provide a retail renminbi business to local residents and set up branches in any Chinese city.

 

"This will have a big impact on Chinese banks," Shi said.

 

The biggest impact will be on renminbi savings, he said, as foreign banks are likely to siphon off some of the money which has grown by an annual average of 2 trillion yuan (US$246 billion) in recent years to 15 trillion yuan (US$1.8 trillion) by the end of 2005 from local banks.

 

"It's likely that a fair number of the smaller banks might see their clients, good clients, leave (for foreign banks)," Shi said.

 

But, he added, as foreign banks only focus on high-end clients, "there will not be an exodus of savings deposits in the initial phase after liberalization."

 

Chinese banks will need to improve their competitiveness by accelerating reform and improve their services to be able to withstand the impact, he said.

 

Some restrictions will remain in place; Shi said foreign banks will not be allowed to invest in more than two Chinese banks, a rule he said is necessary to prevent monopolies and unfair competition.

 

Real strategic investors "do not need too many partners," he said.

 

"Foreign banks need to understand this," he added. "This is not to restrict them, but to protect fair competition, which is good for the industry."

 

The regulator thought the opening up of the banking sector to foreign banks has been orderly so far, and Chinese regulators are carrying out effective supervision.

 

Shi said: "Currently, the opening up of the market has been orderly, and entry requirements have been strict. The principle of banking liberalization is correct, and fits with the needs of China's economic development."

 

The vast Chinese banking market is very attractive to foreign banks; major banks in many developed countries have started doing business in China, the official said. "And their performance is getting better and better."

 

A total of 71 foreign banks had set up 238 operational entities in 23 Chinese cities by the end of last October, according to the CBRC. Although they still account for just 2 percent of total banking assets, they have grabbed a 20 percent share of foreign-currency loans.

 

Since the local currency business with local businesses was opened to them around two years ago, foreign banks' renminbi assets have risen to 100 billion yuan (US$12.3 billion).

 

The official said the current ceilings on foreign investment in local banks are appropriate and will probably not be changed before the end of the year. Foreign banks are allowed to own no more than a combined 25 percent of any Chinese bank. The ceiling on a single foreign investor stands at 20 percent.

 

"Looking at our management capacity and how we are coping with the opening up, I believe they are appropriate," said Shi.

 

But adjustments to the ceilings are likely after full liberalization "if economic development enters a new phase that requires foreign banks to do more business," he added.

 

(China Daily March 9, 2006)